WARNING:
This Digest was prepared for debate. It reflects the legislation as
introduced and does not canvass subsequent amendments. This Digest
does not have any official legal status. Other sources should be
consulted to determine the subsequent official status of the
Bill.

This Bill amends
the Industry Research and Development Act 1986 (the
IR&D Act) by addressing procedural and administrative issues
relating to tax concessions for eligible companies involved in
industry research and development activities (R&D).

The Bill also requires the Industry Research and
Development Board (the Board) to consider six late registration
applications lodged by eligible companies. These applications were
mistakenly lodged with the Australian Taxation Office (ATO) instead
of the Board. The Board did not receive them until after the time
allowed for making an application for registration had
ended.(1)

The object of the IR&D Act is to promote the
development, and improve the efficiency and international
competitiveness, of Australian industry by encouraging R&D
activities.(2)

The IR&D Act encourages R&D activities
in two ways:

Grants(3) and

Tax concessions.(4)

The grants scheme is intended to address gaps in
the tax concession scheme by providing direct assistance to those
companies undertaking R&D activities which cannot take
advantage of tax concessions. The activities eligible for the
grants are beyond the scope of R&D expenditure eligible for the
concessions of section 73B of the Income Tax Assessment Act
1936 (the Tax Act).

In 1986 the Labour Government introduced the
IR&D Act to provide income tax concessions for expenditure on
R&D. Section 73B of the Tax Act represents this express
government policy decision.

Initially, the concession was to be available
for a limited number of years only; however, after various policy
changes and consequential amendments to the legislation, the Labour
Government announced in the 1992-93 Budget speech that the
concession would be continued indefinitely, at the original rate of
150 per cent.

The new Coalition Government, as part of its
Budget measures on R&D, decided to reduce the maximum
concessional rate of deduction from 150 to 125 per cent, for
expenditure incurred after 20 August 1996, except where the
expenditure was required to be incurred by a contract (other than a
contract of service) entered into before the announcement. Annual
eligible R&D expenditure must exceed $20 000 to obtain the full
125 per cent deduction.

The value of R&D tax concessions is set out
in the table below.(5)

1993-94

$m

1994-5

$m

1995-96

$m

1996-97

$m

1997-98

$m

1998-99

$m

1999-00

$m

2000-01

$m

465

685

675

710

440

370

380

400

A company wishing to claim a deduction must
first be registered with the Board.(6)

The Board is charged, under the IR&D Act,
with determining whether taxpayers qualify for the concessional
deductions under section 73B of the Tax Act.(7) Taxpayers must
satisfy two main limbs in order to claim deductions.

The first limb requires the expenditure to be
incurred by an eligible company or by a partnership, which
is treated as an eligible company for the purposes of the
section.(8) Foreign companies are not eligible. Thus expenditure
incurred in R&D activities by non-residents in receipt of
Australian-sourced royalties is not deductable under section 73B of
the Tax Act.(9)

The second limb requires R&D activities to
be eligible activities.(10) The current definition no
longer requires that the activities be carried on in Australia or
in an external Territory.(11) This reflects the widening scope of
the R&D concession.

The statutory requirement that R&D
activities be systematic, investigative or experimental requires
some methodology to be adopted by the Board in considering
applications.(12) The methodology required by the legislation can
be seen as including:

Basic research: experimental or theoretical work
undertaken primarily to acquire new knowledge of the underlying
foundations of phenomena, and observable facts, without any
particular application or use in view.

Applied research: work undertaken for the advancement
of knowledge with a specific practical application in view. It
involves consideration of the available knowledge and its extension
in order to solve particular problems, and to develop ideas into
operational form.

Experimental development: systematic work using the
results of basic or applied research and/or practical experience
for the purpose of creating new or improving existing materials,
devices, products, processes or services.

The work will relate to principles of physical
sciences, biological sciences, chemical sciences, medical sciences,
engineering or computer science.(13)

If the Board is of the opinion that any of the
results of R&D activities have not been exploited on normal
commercial terms, for the benefit of the Australian economy or that
those activities do not have sufficient Australian content, no
deduction is allowable.(14) However, the Board must notify the
company of its intention to issue a certificate and allow the
company 90 days to make a written submission to the Board before
any certificate is issued.(15) A decision of the Board to issue a
certificate is reviewable by the Administrative Appeals
Tribunal.(16)

Items 1 - 5 relate to the
appointment of the Board and committee members. The maximum term of
an appointment of appointed members of the Board will be reduced
from 5 years to 3 years. The Minister will now determine the period
of an appointment of a committee member up to a maximum of 3 years.
Persons will not be eligible to be an appointed member if they have
already served 2 consecutive terms as a member of the Board. The
Minister is also directed to consider the desirability of
staggering appointments to the Board.

Item 6 provides that
consultants may assist the Board and committees and others engaged
by the Commonwealth, in addition to persons appointed under the
Public Service Act 1922.

Item 8 provides that a
provisional certificate for overseas R&D expenditure is deemed
to take effect from the day the application was received by the
Board.(17) Companies are unable to claim the concessional deduction
for overseas expenditure made prior to the effective date of the
certificate.

Item 9 inserts a new section
39EF, which allows the Board to amend or revoke a provisional
certificate for overseas R&D expenditure to ensure that the
maximum deduction that a company may claim for overseas R&D
expenditure is 10 per cent of total project expenditure of R&D
activities. This new provision ensures that the Board will be able
to restrict a company's access to concessional deductions for the
overseas expenditures if the initial undertaking by the company is
not fully met. This provision operates retrospectively as if a
provisional certificate had originally been given as amended in
accordance with the determination.

Items 10 and 11 allow the Board
to give a registered Australian research agency an annual notice
requesting advice as to whether it wishes to remain
registered.(18)

Currently, Australian research agencies are
registered indefinitely. If a research agency does not return a
completed notice form within 30 days, or such longer period as the
Board allows, the registration is cancelled. The government's
intention is to provide the Board with the means of gaining up to
date information about these agencies which might then be used by
companies seeking to use their expertise.

Items 13 and 14 increase the
current period for applying for registration from 6 months to 10
months.(19)

Item 15 gives the Board a
limited discretion to alter the registration of a company to
correct a mistake in the registration. This provision operates
retrospectively as if an application had originally been made as
altered.

Items 16, 17 and 18 allow the
Board further flexibility to alter the information requirements
imposed on companies in the registration process. Currently, the
level of information required of applicants is the same regardless
of the expenditure levels associated with R&D activities. These
new provisions will allow the Board to seek different information
for different classes of applicant. Accordingly, information
requirements may tend to vary according to the amount of individual
claims.

The current application process requires
companies to specify and describe the R&D activities in
relation to which registration is sought.(20) This will be
repealed. Instead, companies will be required to furnish
information about their R&D activities in accordance with
application forms approved by the Board. These new provisions
compel applicants to reply to specific questions as determined by
the Board.

Each registration application must be
accompanied by a declaration, by a person authorised by the
company, that the company has maintained records, which
substantiate its activities. This provision will reduce the
possible abuse of the tax concession scheme by companies
constructing research records after the event in order to justify
an expenditure claim.

Items 19 and 20 remove the
power of the Board to extend the deadline for making an application
for registration (previously 3 months). This is in lieu of the new
provision in Items 13 and 14 allowing 10 months
instead of than 6 months for making applications.

Item 21 allows the Board to
consider a company for registration, which fails to meet the
deadline for making an application because of exceptional
circumstances. Examples of exceptional circumstances may be postal
delays or the untimely death of a person responsible for preparing
the application on behalf of the company.(21)

This provision does not allow retrospective
access to the R&D Tax Concession scheme, which the current
deadlines in the IR&D Act are designed to prevent.(22)

Item 22 relates to companies,
which fail to exploit the results of successful R&D activities.
If the Board considers that it would have been reasonable to expect
that the results would be exploited, but the company has failed to
do so, the Board may issue a certificate to the Commissioner of
Taxation causing the company to be ineligible for the R&D
deduction for those activities.

Items 23, 24 and 25 provide
that certain new provisions listed in this Bill shall be subject to
internal review.

Item 28 adds
consultants to other specified persons mentioned under
confidentiality provisions in section 47 of the IR&D Act.

The Government considers the mistake of lodging
the six applications(23) with the ATO and not the Board to be
reasonable given the joint administration of the Research and
Development Tax Concession scheme by the ATO and the Board.(24) The
extension of the application for registration period from 6 months
to 10 months seeks to address this problem. If the Board decides to
register all six companies there would be a total cost to revenue
of approximately $80 000.(25)

The Bill allows the Board, and not the
applicants, to determine the nature of information, which it
considers necessary and appropriate for determining applications
for registration. Though this initiative may streamline the
application process, applicants will be mindful of confidential
information issues in view of allowable outsourcing under
Item 6 of this proposal. Section 47 of the
IR&D Act seeks to addresses this potential problem area.
However, specific confidential information agreements may need to
be drafted and executed by all parties in order to clarify and make
certain their obligations under these new arrangements.

Industry Research and Development Amendment Bill 1998,
Explanatory Memorandum, p.1.

Industry Research and Development Act
1986 (IR&D Act), section 3.

Ibid., Part III.

Ibid., Part IIIA.

Tax Expenditure Statement, 1996-97, published by the Department
of the Treasury, December 1997, p.36.

Ibid., section 39J.

Ibid., Part II.

Income Tax Assessment Act 1936 (Tax
Act), section 73B(1) defines eligible company to mean a
body corporate, incorporated under a law of the Commonwealth or
State or Territory.

Tax Ruling IT 2671.

Tax Act, section 73B(1) defines eligible activities to
mean:

(a)systematic, investigative or experimental
activities that involve innovation or technical risk and are
carried on for the purpose of acquiring new knowledge (whether or
not that knowledge will have a specific practical application) or
creating new or improved materials, products, devices, processes or
services; or

(b)other activities that are carried on for the
purpose directly related to the carrying on of activities of the
kind referred to in paragraph (a).

Section 39EB of the IR&D Act sets out the guidelines
relating to expenditure on overseas R&D activities. Section
39EB(3)(c) further provides that expenditure incurred in respect of
the overseas component of R&D activities must not exceed 10 per
cent of the total expenditure that the company has incurred or
proposes to incur on the project of R&D activities.

Australian Tax Practice: Commentary,
p.2514.15

Ibid., p.2514.16.

A certificate is issued to the Commissioner of Taxation under
section 39M of the IR&D Act.

IR&D Act, section 39M(2).

Ibid., section 39T.

Section 39EC of the IR&D Act provides that an eligible
company proposing to claim a deduction under section 73B of the Tax
Act for overseas R&D activities may apply to the Board for a
provisional certificate. A provisional certificate is issued to the
Commissioner of Taxation based on advice from the applicant company
that the Australian-based components of the proposed R&D
project will proceed.

Section 4 of the IR&D Act defines a researcher as
a person, body, organisation or institution that, in the opinion of
the Board, is capable or carrying out a project of R&D
activities.

The period begins to run after the end of the company's year of
income.

Ross Kilmurray
16 July 1998
Bills Digest Service
Information and Research Services

This paper has been prepared for general distribution to
Senators and Members of the Australian Parliament. While great care
is taken to ensure that the paper is accurate and balanced, the
paper is written using information publicly available at the time
of production. The views expressed are those of the author and
should not be attributed to the Information and Research Services
(IRS). Advice on legislation or legal policy issues contained in
this paper is provided for use in parliamentary debate and for
related parliamentary purposes. This paper is not professional
legal opinion. Readers are reminded that the paper is not an
official parliamentary or Australian government document.

IRS staff are available to discuss the paper's contents with
Senators and Members
and their staff but not with members of the public.

Except to the extent of the uses permitted under the
Copyright Act 1968, no part of this publication may be
reproduced or transmitted in any form or by any means, including
information storage and retrieval systems, without the prior
written consent of the Parliamentary Library, other than by Members
of the Australian Parliament in the course of their official
duties.